12.0     INTRODUCTION

Public finance is the study of how governments raise and spend money, encompassing revenue generation (like taxation), expenditure management, and the overall impact of government financial policies on the economy and society.

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          12.0     FISCAL POLICY

Fiscal policy refers to the use of government spending and taxation to influence the economy.

OBJECTIVES OF FISCAL POLICY

• Stabilize the economy.
• Promote economic growth.
• Reduce unemployment.
• Control inflation.

TOOLS OF FISCAL POLICY

• Government spending (infrastructure, education, health)
• Taxation (income tax, corporate tax, sales tax)

TYPES OF FISCAL POLICY

• Expansionary Fiscal Policy: Increases in government spending and/or decreases in taxes to stimulate the economy.
• Contractionary Fiscal Policy: Decreases in government spending and/or increases in taxes to cool down an overheated economy.

          12.2     TAXATION

Taxation is the process by which a government collects money from individuals and businesses to fund public services.

CLASSIFICATION OF TAX

• Direct Taxes: Taxes that are paid directly by individuals or organizations to the government. Examples include Income Tax, Corporate Tax, Property Tax.
• Indirect Taxes: Taxes that are levied on goods and services and are paid indirectly by consumers. Examples include Value Added Tax (VAT), Sales Tax, Excise Duty.

CLASSIFICATION OF TAX (Based On Tax Structure)

• Progressive Tax: The tax rate increases as the taxable amount increases. Higher income earners pay a larger percentage of their income in taxes. Example: Income tax in many countries.
• Regressive Tax: The tax rate decreases as the taxable amount increases. Lower income earners pay a larger percentage of their income in taxes. Example: Sales tax.
• Proportional Tax: A flat tax rate is applied to all income levels, meaning everyone pays the same percentage. Example: Some corporate taxes.

DIAGRAM SHOWING PROGRESSIVE, REGRESSIVE AND PROPORTIONAL TAX

          12.3     PRINCIPLES OF TAXATION

• Equity: Taxes should be fair and just.
• Efficiency: Taxes should not create significant economic distortions.
• Certainty: Taxpayers should know how much tax they owe and when to pay it.
• Convenience: The tax payment should be easy for the taxpayer.

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          12.4     BUDGET

A budget is a financial plan that outlines expected revenues and expenditures for a specific period.

TYPES OF BUDGETS

• Surplus Budget: When expected revenues exceed expenditures.
• Deficit Budget: When expenditures exceed expected revenues.
• Balanced Budget: When revenues equal expenditures.

IMPORTANCE OF BUDGETS

• Helps in resource allocation.
• Provides a framework for economic policy.
• Facilitates accountability and transparency in government spending.

          12.5     PUBLIC DEBT

Public debt is the total amount of money that a government owes to creditors.

TYPES OF PUBLIC DEBT

• Domestic Debt: Borrowing from local lenders.
• Foreign Debt: Borrowing from foreign lenders.

IMPLICATIONS OF PUBLIC DEBT

• Can finance public projects and stimulate economic growth.
• High levels of debt can lead to financial instability and affect credit ratings.
• Management: Governments must manage public debt carefully to ensure it remains sustainable.

          12.6     TAX OF INCIDENCE

Tax incidence refers to the analysis of the effect of a particular tax on the distribution of economic welfare. It examines who ultimately bears the burden of a tax, which may differ from the entity that is legally responsible for paying the tax.

TYPES OF TAX INCIDENCE

• Formal Incidence: Refers to the legal obligation to pay the tax. For example, if a tax is levied on producers, they are legally responsible for paying it to the government.
• Effective Incidence: Refers to the actual burden of the tax, which may differ from the statutory incidence. It considers how the tax affects prices and income distribution.

FACTORS INFLUENCING TAX INCIDENCE

• Elasticity of Demand: if demand is inelastic (consumers are less responsive to price changes), consumers will bear a larger share of the tax burden.
• Elasticity of Supply: If supply is inelastic (producers cannot easily change production levels), producers will bear a larger share of the tax burden.
• Market Structure: In competitive markets, the burden of tax is more likely to be shared between consumers and producers. In monopolistic markets, producers may pass a larger portion of the tax onto consumers.
• Nature of the Tax: Direct taxes (like income tax) are typically borne by the individual or entity that pays them. Indirect taxes (like sales tax) can be passed on to consumers through higher prices.

ELASTICITY OF TAX: Elasticity of Tax refers to the responsiveness of tax revenue to changes in the tax base, such as income, consumption, or production levels. It measures how much tax revenue changes when there is a change in the economic activity that the tax is based on.